FINANCIAL MARKET UPDATE 6.23.2020

AUTHOR: JOSH JENKINS, CFA

STORY OF THE WEEK

INVESTMENT FUND EXPENSES DECLINED LAST YEAR

Each year an analysis of expenses charged by the fund industry is published by the investment research firm, Morningstar. The most recent version of this report was published earlier this month, and it revealed a few positive trends that benefit investors. Below are some highlights from the report and a few reasons why they are important.

Fund Expenses are Trending Lower

Fund expenses have steadily declined for nearly 20 years as competition in the fund industry has increased, and passive investing has grown in popularity (among other reasons). There are a handful of ways to look at expenses. A few of the common approaches are illustrated in the chart below. Nearly all of the methods yield the same result: fund expenses fell to the lowest level on record last year.

  • The equal-weighted average expense on all funds fell from 1.03% to 1.01% in 2019.

  • If you weight by assets, which provides a more accurate view of what investors actually paid, the average expense declined from 0.48% to 0.45%. For context, 0.45% is roughly half of the asset-weighted average expense in 1999 (0.87%).

  • The asset-weighted average expense fell from 0.68% to 0.66% among active funds and fell from 0.14% to 0.13% among passive funds. 

Assets are flowing from High to Low-Cost Funds

The pattern of fund flows has shifted dramatically over the last five years. Investors have been dumping high-cost active funds at a rapid pace in favor of lower-cost funds. While the cheapest quintile of active funds continues to attract assets, the majority of dollars have moved into passive. Overall, 93% of the $581 million of net new money in 2019 landed in the cheapest 10% of funds.

Why These Trends Matter

The benefit of a decline in fund expenses does not require much explanation. Money not paid to fund providers remains in the portfolio and compounds over time. The flow of money into the lowest cost options is also a positive development. Investors often rely on performance when evaluating potential investment options, selecting the fund(s) that have generated the highest returns in the past. The expectation is that the previous winners will keep winning, although, in reality, they are just as likely to start losing. Studies have shown that past returns are not indicative of future performance, while fund expenses are among the most reliable indicators(1). As a result, investment outcomes are likely to improve on average as money flows into cheaper alternatives.

At Lutz Financial, keeping costs low is one of the core tenets of our investment philosophy. To accomplish this, we use an array of tools at our disposal to monitor the landscape consisting of thousands of fund options regularly. Doing so ensures our clients benefit from the tailwind provided by these trends.

1 Financial Research Corporation, 2002. Predicting Mutual Fund Performance II: After the Bear.

WEEK IN REVIEW

  • The S&P 500 index gained just under 2.0% last week, partially rebounding from a nearly 5% decline from the week prior. It is now down roughly 2.5% in 2020.
  • Last week, the Conference Board published its monthly Index of Leading Economic Indicators (LEI). The index is comprised of 10 metrics that are intended to signal turns in the business cycle. After two sharply negative prints in March and April, the LEI turned positive in May. While May’s gain is nowhere near large enough to recoup the previous declines, its uptick is a positive sign for the economy.
  • Notable economic data releases still to come this week include new orders for long-lasting goods in May, an update on initial jobless claims (a proxy for layoffs), consumer spending, and inflation. See the Economic Calendar for more detail.

HOT READS

Markets

  • May U.S. Home Sales Dropped 9.7% as Pandemic Kept Shoppers Indoors (WSJ)
  • Global Economy Shows Signs of Pulling Out of Its Slump (WSJ)

Investing

  • Invest With The Upper Crust and Sometimes You just Get Crumbs (Zweig)
  • The Latest Memo from Howard Marks: The Anatomy of a Rally (Oaktree Capital)
  • Beware: ‘Zombie ETFs’ Lurking (ETF.com) The importance of ETF Due Diligence

Other

  • The Credit Card-Fees Merchants Hate, Banks Love and Consumers Pay (WSJ)
  • Sources: MLB Targets 60-Game Season Starting Around July 24, Assuming Conditions Met (ESPN)

ECONOMIC CALENDAR

Source: MarketWatch

MARKETS AT A GLANCE

Source: Morningstar Direct.

Source: Morningstar Direct.

Source: Treasury.gov

Source: Treasury.gov

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

Source: FRED Database & ICE Benchmark Administration Limited (IBA)

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ABOUT THE AUTHOR

402.763.2967

jjenkins@lutz.us

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JOSH JENKINS, CFA + SENIOR PORTFOLIO MANAGER & HEAD OF RESEARCH

Josh Jenkins is a Senior Portfolio Manager & Head of Research at Lutz Financial with over nine years of investment experience. He is responsible for assisting clients in the construction, selection, and risk assessment of their investment portfolios. In addition, Josh will provide on-going research and trade support.

AREAS OF FOCUS
  • Asset Allocation & Portfolio Management
  • Investment & Market Research
  • Trading
AFFILIATIONS AND CREDENTIALS
  • Chartered Financial Analyst (CFA)
  • Chartered Financial Analyst Institute, Member
  • Chartered Financial Analyst Society of Nebraska, Member
EDUCATIONAL BACKGROUND
  • BSBA, University of Nebraska, Lincoln, NE

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